Sourcing Strategic Investors, Part II

by Laurence Hayward

Make a wish—that the corporate venture investment world continues to grow. Strategic investors are an increasingly vital source of capital for many entrepreneurs. Who else will put up the cash? Ask yourself, “How many financial venture capitalists are investing in material science these days? Or cleantech? Or hardware?” Not many, right? So let’s discuss finding corporate investors that understand an entrepreneur’s needs for flexibility and ubiquity.

In a strategic investment in emerging technology, the corporation, or strategic, typically seeks to gain an operational advantage in the form of:

Access to new markets

Access to a large customer

Access to a dedicated supplier

Other benefits in addition to capital.

Sounds like a match made in heaven, right?

Well, it’s complicated.

Those additional desires often make their way into multiple forms of agreement. But separate from the agreements, there is the relationship. And any good relationship requires ongoing trust and mutual benefit.

Flexibility

A critical need for an entrepreneur is flexibility, whether that means changing strategies, business models, or product mix. If there are no agreements beyond the investment itself, then what is expected from the relationship may be vague. But let’s face it—there are expectations nonetheless.

So, as both parties seek advantages beyond capital, it’s important to match the method with the way the entrepreneur plans to run the company. Is there a common vision of where you want to go and how to get there? The latter is notoriously mutable.

If the entrepreneur changes business models, is there reason for both parties to continue working together?

What about a change in product mix?

What if the strategic is a supplier and the entrepreneur needs to use other suppliers?

What if the strategic is a customer and the entrepreneur wants to sell to their competitors?

What if the strategic is a distributor and the entrepreneur needs channels that it doesn’t cover?

What if the strategic is a potential acquirer and the entrepreneur wants to lock in the highest possible bid at the sale of the company?

What if the strategic is pursuing certain lines of business that the entrepreneur sees as competitive?

How do you keep the relationship intact? The two parties want to assume the best going into a relationship, but a frank conversation around each of these issues may go a long way in managing expectations.

Many strategics need flexibility as well. Corporate objectives and personnel shift more quickly today than ever before. How will changes in management or corporate objectives impact the relationship?

Strategic investors that have been in venture investing for some time understand an entrepreneur’s need for flexibility. Others may understand it conceptually, but still need to put the interests of their organization first. Finding a comfort zone among potentially conflicting goals is an important part of the discussion. What are your expectations for this relationship? And what if you need to make some changes later in the relationship?

Early in my career, while negotiating a strategic investment, I remember someone using the phrase the imagined horribles. It had to do with attempts to document away bad things that could happen.

Once that phrase came out, we all realized we were expending way too much energy negotiating things that probably wouldn’t happen. Imagined horribles are still necessary to avoid serious problems, but it might not be in the interest of either party to document every aspect of the relationship. The relationship, like the business, will change and adapt. Allow it do so. Focus on the most critical needs of each party. If there is reason to continue working together, the parties will do so. If there isn’t, an agreement may bind, but will it benefit? Or does it prevent the deal from getting done in the first place?

Ubiquity

Seeking ubiquity in one’s product requires vision, guts and more than a bit of confidence. A desire to achieve it is a trait common among great entrepreneurs.

So, in taking on corporate investment, a key assessment for any entrepreneur is whether the investor will augment or restrict the achievement of ubiquity. Will the strategic help the entrepreneur reach new markets and customers? Or will the strategic ask for exclusivities and restrictions on what the entrepreneur can do?

For example, strategic investors may want exclusive rights to a product or technology, providing an advantage in the market versus the competition. This doesn’t seem like an unreasonable demand in exchange for capital and distribution. It’s a tradeoff. But many entrepreneurs recoil at the suggestion of any kind of exclusivity because it inherently conflicts with the ubiquity they seek.

Fortunately, in this era, many corporate investors don’t require entrepreneurs to make this choice even when it would seem in their best interest to do so. Why? Because gaining access to the very best entrepreneurs and technologies requires terms acceptable to not only the entrepreneurs but also to the other investors. And for many important technologies, a syndicate of investors is required.

Besides, there are several ways to win.

If the strategic wants to own a technology or product outright, they are in the best position to understand its value and acquire or license the technology.

Even without exclusivity, a strategic typically gains a first mover advantage if they are working with an entrepreneur to commercialize a new technology.

Many intangibles come from working with entrepreneurs and a culture of innovation.

And, like all the other investors, the strategic has the benefit of their equity value if the product succeeds.

In sum, a strategic can win in many ways if the technology becomes widely available, even to direct competitors.

Regardless of these factors, some entrepreneurs will still be concerned about a strategic limiting the option to sell product to anyone. The concern may be the mere perception of a link to just one customer. For that there is an answer: Consider strategics on the supply side rather than the buy side. A strategic that supplies raw materials to an entrepreneurial venture also wants that venture’s product to become ubiquitous. The tradeoff may come in the form of exclusive rights to supply or to match other suppliers. Redundancy in the supply chain is critical for most businesses that intend to scale. But that’s another point for negotiation.

Chicago Venture Magazine is a publication of Nathaniel Press www.ChicagoVentureMagazine.com Comments and re-posts in full or in part are welcomed and encouraged if accompanied by attribution and a web link. This is not investment advice. We do not guarantee accuracy. It’s not our fault if you lose money.